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Taxes to the Rescue

Lobbyists, don your loafers: The biggest tax-reform debate in decades is about to begin.

While the debt-ceiling deal didn't include any tax increases, the next phase of negotiations is sure to explore raising new revenues through tax reform. That's because, by law, the Bush tax cuts are set to expire at the end of 2012, putting the issue of revenues squarely on the table -- but with the White House holding more cards this time around.

Tax reform offers something for everybody. Republicans can avoid raising rates, which would never fly with the Tea Party legions, but they can still bring in major new revenue by closing tax loopholes -- a compromise many in the GOP can live with. For President Barack Obama, tax reform offers a path to bigger revenues without explicitly violating his pledge not to raise taxes on the middle class.

Tax reform could also deliver even bigger gains to the president if he handles the issue correctly. A killer problem for Obama is that he is now seen by many voters as being part of a dysfunctional Washington establishment that is too cozy with Wall Street and other special interests. By taking on these groups with a radical tax-reform play, Obama could once again seize back the "change" mantle going into the 2012 election. Indeed, at this point, a tax-reform push may be the only option the president has left to shore up his standing with an anti-incumbent electorate deeply cynical about everyone in Washington.

A big push on tax reform has been brewing for nearly a year, and one deficit plan after another has called for cleaning up the tax mess. The president's fiscal commission estimated that all these loopholes cost the Treasury $1.1 trillion a year and are just federal spending in another form. The corporate tax code alone, said the commission, includes 105 different breaks and credits.

Few issues are as polarizing as taxes, but there's actually a surprising degree of ideological agreement that this crazy quilt system has got to go. Conservatives see all the loopholes as a prime way that government meddles in society, "picking winners and losers" in business or rewarding certain kinds of individual behavior, like buying a house. Progressives fret that many tax expenditures favor the affluent, whether it's the perks that subsidize 401ks, employer-provided health care, and home mortgages, or the array of breaks that benefit corporations.

If tax reform, though, is a great idea in theory, all bets are off once the sausage-making starts in Washington. It won't be easy for President Obama to take ownership of this issue and get results in a way that brings in big new revenues and shows that government can beat back special interests.

Step one is for the president and Democrats to move fast to define the tax-reform challenge on progressive terms. A key here is to put an overhaul of the corporate tax code front and center while dealing more quietly with much-beloved individual breaks.

The news earlier this year that General Electric paid no taxes in 2010 triggered widespread public anger, and Obama should play to that anger with a populist pledge to stop this sort of thing. Meanwhile, his actual reform plan needn't be wildly out in left field to achieve big changes. For instance, the bipartisan recommendation of his fiscal commission was to eliminate all corporate tax loopholes while also lowering the top rate. A similar plan, enacted as part of the 1986 tax-reform bill, increased overall corporate tax revenues by a third.

A call by Obama to close all corporate loopholes would trigger near hysteria on K Street and in executive suites nationwide, but nothing could be better for the president's image at this point. Best of all, though, Obama won't be waging some fruitless holy war: Between Tea Party libertarians, progressive populists, and fiscal hawks, the votes are likely there in Congress to win major corporate tax reform.

In reforming individual tax breaks, Obama will want to use a scalpel, not a meat cleaver. Deductions for home mortgage interest and other breaks mainly benefit the well-off, but they also sprinkle help to the middle class. Proposals here should seek to limit how much individuals can deduct from their taxes, while loudly proclaiming that the tax code will still encourage homeownership or saving for retirement. Here again, the president is likely to find bipartisan support for reform.

Finally, it would be nice to at least partly shift what the government taxes -- say, by replacing the payroll tax with a progressive consumption tax. But such ideas have yet to percolate enough in Washington to command strong support, so my guess is that this is placing the bar too high -- for now anyway.

The debt-ceiling deal is a disgrace. But it will be no small upside if the deal allows Obama to remake the tax system -- and save his presidency in the process.